Italy's borrowing costs set to soar

Italy's borrowing costs are expected to soar today when it sells up to €8.5 billion of bonds, with jitters about its debt mountain seen pushing its benchmark 10-year bond yield to the highest in 11 years.

A sell-off in Italian assets earlier this month on fears that the euro zone's third-biggest economy was being dragged into the debt crisis eased somewhat after last week's agreement on a second bailout package for Greece.

But at an auction on Tuesday rates on Italy's short-term bonds hit their highest since the start of the 2008 financial crisis, underlining investors' concerns that a solution to the euro zone debt crisis is still far away.

With a debt burden of 120 per cent of gross domestic product, anaemic growth and a fragile government, Italy is seen as vulnerable to contagion.

Deadlock in US talks to avoid a possible debt default there is only adding to investors' concerns, pushing them to favour safe-haven German Bunds over Italian BTPs, analysts say.

"I expect a sizeable increase in (BTP) yields compared with the previous auction," said Alessandro Giansanti, a rate strategist at ING in Amsterdam.

The 10-year BTP yield is seen rising to 5.75-5.80 per cent at the auction. That would be the highest since February 2000 and a shade under a euro lifetime record of 5.81 per cent at auction.

Italy last sold the September 2021 BTP at the end of June paying a gross yield of 4.94 per cent.

Luca Cazzulani, a fixed-income strategist at UniCredit in Milan, said he expected the auction to be adequately covered, with demand also likely to be supported by redemptions worth €20 billion of an old BTP bond coming due - cash which dealers will seek to reinvest.

The 10-year BTP fell almost a full point in price yesterday, pushing its yield up to 5.76 per cent, not too far from the psychologically key 6 per cent line it broke in the secondary market for the first time since 1997 earlier this month.

Analysts said dealers had likely dumped the bond on the eve of the sale to cut their positions before buying into the auction.

Rome will sell between €2 billion and €3 billion of its 10-year benchmark today, in addition to €2.5 billion - €3.5 billion of a new three-year BTP bond maturing in July 2014.

Analysts and traders said they expected the shorter bond to sell at a yield of around 4.80 per cent, more than 100 basis points higher than the 3.68 per cent level at a similar sale a month ago.

Italy will also offer up to €2 billion of a seven-year CCTeu bond linked to the six-month Euribor rate and an off-the-run 2015 CCTeu.

Analysts say Italy can shoulder rising debt costs in the short term as the average life of 7.09 years on its €1.6 trillion outstanding bonds helps smooth the impact of higher rates.

However, they say the high premiums the market demands would threaten debt sustainability if they became entrenched.

Reuters